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					Funds: Transfer Pricing
9 February 2006
JIN-YOUNG LEE
Agenda


• Introduction/objectives
• Overview of recent developments
• Case study
OECD Development
on Financial Sector Issues

 • 1984: Transfer Pricing and Multinational Enterprises:
         Three Taxation Issues – The Taxation of
         multinational Banking Enterprises


 • 1994: Model Tax Convention: Attribution of Income to
        Permanent Establishments
 • 1995: Transfer Pricing Guidelines – Art. 9
 • 1998: Global Trading Report



                                                           3
The OECD Report on the Attribution
of Profits to Permanent Establishments


 • The project in overview – Part I (General Introduction):
   Part II (Traditional Banking Activities): Part III (Global
   Trading); Part IV (Insurance)
 • Discussion Drafts - February 2001; March 2003 and 2004
 • Consultation process – Paris in April 2002; Zurich 2003
   and Paris in October 2004




                                                                4
Objective



 • Highlight recent developments on the application of
 transfer pricing to funds




                                                         5
Trends - historic

   1950s → 1970s    • Self police



   1970s → 1980s    • Distortive behaviours sensitise the TP
                    issue – big ticket fights


   1990s → 2005     • The arm’s length principle confirmed
                    supreme
                    • Short cuts:
                       • Cost plus
                       • ‘Emperors’ clothes’ comparables
                    • Silver linings:
                       • Contract terms
                       • Planning ‘structures’
                                                               6
Typical structure

                  Management
                    Services
                   Agreement
                               Offshore
      Funds
                               Manager


                                    100%


    Investments
                               Onshore     Investment
                                           Management
                               Manager     Services




                                                        7
Trends - 2005


 • Rejection of ‘self policing’
 • Recognition that businesses operate globally
 • Rejection of ‘short cuts’
 • Less cost plus, more profit split?
 • People are less mobile than capital
 • Key Entrepreneur Risk Takers
 • ‘Fairness’ and ‘stability’ implicitly preferred over the arm’s
 length principle


                                                                    8
Key principles



 • KERTS identification analysis WILL drive transfer pricing
 models




                                                               9
Funds – Key points


 • Level of assets under management
 • Type of assets and investment strategies
 • What functions create value
 • Integration between the functions performed in each location
 • Organisation chart
 • Headcount in each company
 • Granularity of available data
 • Type and location of customers
 • Arrangements with 3rd parties
                                                             10
Cost plus


 • Issues with cost or cost plus approaches
 • Is cost plus still valid?
 • Interaction with other transfer pricing policies – embedded
   or allocated?
 • On-going review required




                                                                 11
Revenue sharing


 • Use of automatic revenue sharing arrangements?
 • Do the functions in each location merit a share of revenues?
 • Attributor of marketing fees
 • Trading profit allocation methodolgy




                                                             12
Profit split


  • Residual or total?
  • Identification of allocation keys
  • Interaction with regulatory requirements
  • Availability of data
  • VAT considerations




                                               13
Definition of profit pots


 • Companies & partnerships & integrated business
 • KERTS not cost plus
 • Conflict between personal & corporate tax




                                                    14
Case study




             15
Summary


• Arm’s length principle important as business becomes global
• Identification of key value drivers
• KERTs – increasing importance
• Appropriateness of cost plus
• Permanent establishment risks




                                                           16
Case study
     Optimal Fund Management (‘OFM’) is a hedge fund manager based in the Cayman Islands and is the manager of the Optimised Fund
(‘the Fund’), a hedge fund also based in the Cayman Islands. It has experienced rapid growth over the past 2 years and now has operations
in the UK, US, Switzerland and Germany. Due to forecast growth in Asia, it intends establishing a presence in Hong Kong and Singapore in
the next 3-6 months (initially marketing & distribution & possibly investment management/research longer term).
     The Fund pays all management (2%) and performance fees (20%) to OFM. OFM has delegated the investment management activities to
its subsidiary companies - Optimal UK (‘OUK’) and Optimal US (‘OUS’). During the past year, OUK has established a branch in Japan to
undertake investment research.
     When the Fund was initially launched, OFM was responsible for the marketing of the Fund. However, recently it has delegated this
function to Optimal Switzerland (‘OPS’) which is now responsible for the global marketing and distribution strategy for the Fund. OPS is also
responsible for the marketing and distribution of the fund in continental Europe. OUK, OUS and Optimal Germany are also responsible for
marketing & distribution of the fund in UK, North America and Germany/Austria, respectively. OPS also uses third parties to distribute the
Fund, for which they receive a fee equal to 15-30% of the management fees (and in some cases performances fees) in respect of AUM
introduced. OUK is also responsible for providing all the back-office support services to the Group.
     The Group is owned by 7 key principals. OUK has 15 employees in its investment management section (including 3 principals). There
are 3 employees dedicated to marketing/distribution (including 1 principal). There are 15 employees providing back-office support. OUS has
10 employees in its investment management section (including 2 principals). There are 2 employees dedicated to marketing/distribution.
OPS has 3 employees undertaking its global marketing responsibility (including 1 principal), while Germany has 2 employees. There are 3
employees in Japan undertaking investment research.
     The investment management team in the US and UK hold daily conference calls to discuss the investment strategy and trading for the
Fund. On a weekly basis, OPS holds a conference call to discuss the global sales strategy and sales performance with the
marketing/distribution teams.
     One of the principals of OUK lives in the US. The principal is responsible for determining the investment trading strategy for the Fund.
The principal commutes to London on a monthly basis for up to 5 days per month and participates on the daily investment management
conference calls while in the US. The principal also spends time in the US office providing support to the OUS (ie attending new client
meetings to explain strategy).
     Due to expansion of its operations globally, Optimal is concerned about its transfer pricing. Optimal has approached you for advice on
the appropriate transfer pricing policy for its global operations. In particular, it has asked you to consider:
     1. The appropriateness and issues associated with adopting the following transfer pricing methodology:
        a.      Cost plus
        b.      Revenue sharing
        c.      Profit split
     2. Other tax issues? (Hint: taxable presence in other jurisdiction?)
     3. The approach of tax authorities in Korea to transfer pricing?
Case study

                                         Owners
                                                                                      Master Fund
                                                                                    (Cayman Island)


                                                                       Management contract
                                  Optimal Fund
                               Management (Cayman)
         100%
                                                                 Investment
             Optimal                                         Management contract
                                    100%
           Switzerland
           (Marketing)                                                      100%
                           100%
                                                 Optimal UK
                           Optimal
         3rd Party                            (IM/Mkting/Dist)
                           Germany
         Distribut       (Mkting/Dist)
         ors
                                                  OUK Sub
  Investment
                                                  (UK Ltd)              Optimal US
  Manager &
                                                                     (IM/Mkting/Dist)
  Distributor
(Hong Kong &
  Singapore)                                  OUK Korea
                                               (Korean
                                               Branch)
                  Branch)

				
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